ResMed Says Hurray for Heft

While everyone frets about burgeoning obesity, a local medical equipment maker is getting rich off the fat of the land. Yes, fat asses are delivering fat assets to ResMed, which makes equipment to relieve sleep-disordered breathing, particularly obstructive sleep apnea, a condition in which the throat collapses and the sleeper gasps for breath.

Obstructive sleep apnea is “predominant among middle-aged men and those who are obese, smoke, consume alcohol in excess or use muscle-relaxing or pain-killing drugs,” says ResMed in its latest annual report to the government. In obstructive sleep apnea, excess body fat on the neck and chest squeezes air passages. Abdominal and upper-body fat are dangerous. ResMed’s airflow generators, masks, and nasal pillows open up people’s respiratory pathways during sleep.

The proliferation of the portly is bulking up ResMed’s bottom line. The company’s earnings and cash flow have gone up steadily since 2007. Earnings per share rose from 85 cents in 2007 to $2.45 in 2010 while revenue went from $716 million to $1.1 billion and assets from $1.25 billion to $1.63 billion. Revenues have risen for 61 straight quarters. And the stock has climbed since the bear market bottom of 2008. The company has $489 million in cash and only $122 million in total debt. Says Standard & Poor’s, “We continue to view the long-term fundamentals of the obstructive sleep apnea market as intact.”

Julie Stralow of the Morningstar research firm says sales can go up 15 percent yearly through 2014. Her major beef: excessive executive perks, such as personal use of corporate aircraft and club membership, and high compensation doled out to founder and former chief executive Peter Farrell.

As America has awakened to the dangers of obesity, ResMed has become a Wall Street darling. Its website emphasizes that in 1990, only 10 to 14 percent of the adult population in most states was obese. By 1998, most states had 15 to 19 percent obesity rates, and in 2008, most states were up to 25 to 29 percent, while six states went above 30 percent. Another chart shows how sleep-disordered breathing is a symptom of obesity, cardiovascular disease, and diabetes. “Sleep apnea is highly prevalent in morbidly obese patients,” says ResMed on the website.

The company says 20 percent of the adult population in the United States suffers sleep apnea — 13 percent moderate and 7 percent severe. With 90 million corpulent people in the United States alone, ResMed enjoys a bulging market.

Back in 2008, as obesity awareness was billowing, a columnist for proclaimed, “Obesity and sleep-disordered breathing are inexorably linked, and with the rise of the obesity epidemic, all manner of sleep disorders are on the rise and are largely untreated.” The answer: buy ResMed, said the columnist. It was a good call.

Biotech companies (including three in San Diego) are striving to come up with obesity treatments. Even if they succeed, there will still be a hefty market for ResMed’s equipment. Corpulence is not going away. It’s like the preacher who inveighs against adultery; he doesn’t have to worry that he will be so successful that he will preach himself out of a job.

ResMed does have a problem: heavyweight competition. Standard & Poor’s says ResMed is a high-risk stock because of “the highly competitive nature of the respiratory market.” Indeed, the company admits in its annual report to the government, “Some of our competitors have greater financial, research and development, manufacturing, and marketing resources than we do.”

The main competitors are Respironics, which is owned by Philips, the huge Dutch electronics company; Nellcor Puritan Bennett, a unit of Ireland-based Covidien; and DeVilbiss, which recently became an independent company, although it still has ties to its former parent, Sunrise Medical.

And thereby hangs a tale. Sunrise Medical, which used to be based in Carlsbad, was afflicted with the San Diego disease: phony bookkeeping. In 1999, the Securities and Exchange Commission sued the former chief financial officer of a Sunrise subsidiary (not DeVilbiss). He, with the help of several other officials of the division, fraudulently reduced the division’s expenses by recording fictitious assets and improperly decreasing liabilities. The fraud had inflated parent Sunrise Medical’s earnings by 16 percent in 1994 and 40 percent in 1995, when the investigation began.

In 2001, the company went private. It has long since left Carlsbad: it is based in Germany, while its North American operations are run from Longmont, Colorado. The executive who headed the company during the fraud period, while never cited as playing a role, is gone.

The three local biotechs trying to get fat-reduction treatments to market are Amylin Pharmaceuticals, Arena Pharmaceuticals, and Orexigen Therapeutics. Amylin discontinued one early-stage fat-paring drug but is working with a Japanese company to create and commercialize an obesity program that is now in the middle stages of development. The company was founded in 1987 and has lost money steadily; it has a cumulative deficit of $2 billion, but Standard & Poor’s thinks it may lose only 94 cents a share this year, down from $1.31 last year.

In mid-September, Arena Pharmaceuticals got bad news from a panel of the Food and Drug Administration. The government agency said the biotech’s developmental weight-loss drug, lorcaserin, presented too many health risks. Arena’s stock got slaughtered, largely because, as analyst Meera Venu of Morningstar says, the company has very little in the pipeline and “may have difficulty meeting its financial obligations.” Arena has no drug on the market now, has lost money steadily, and has a cumulative deficit of $925 million.

Orexigen, which started business only seven years ago, already has a cumulative deficit of almost $300 million. Its most promising antiobesity product combines one drug used for quitting smoking and battling depression with another for treating alcohol and opioid dependence. The young company gets its first test before the Food and Drug Administration in December. A Japanese pharmaceutical giant will handle marketing in North America.

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It seems to me that virtually all of these medical-oriented companies are highly speculative. One in a thousand has a huge blockbuster discovery that puts it on easy street, a few out of a thousand earn enough to repay the investment made in their R&D work, and the rest disappoint and eventually go away. If you want to speculate, they are a good place to do it. But the odds against being a big winner are almost as poor as winning big at Lotto. Even playing them for short-term advantage seems risky.

Response to post #1: I have had some emails saying ResMed's equipment is not as innovative as Wall Street believes. However, I was not sure of the sources' validity. Best, Don Bauder

Glorified aquarium filter pumps. If it were a consumer item that didn’t need to go through all the approval hoops, it would sell for $19.95.

But it’s a solution looking for a problem. I know so many people who are getting diagnosed with sleep apnea. It’s like it’s an epidemic. These are not overweight people, either. It seems that everyone who complains of lack of sleep is a candidate for these devices.

It’s a scam.

Response to post #3: If it's a scam, Wall Street sure bit on it. Best, Don Bauder

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